Sequestration: Good or Bad for Mortgage Rates?

The word of the week is sequestration, and all across the country, people in every demographic are worried about its effect on their livelihood and their finances. Those considering a home purchase or refinance have special concerns.

What is the sequester, anyway?

The sequester is what Congress and the President agreed to in the event that they couldn’t come up with a budget by March 1, 2013. It was designed to be so awful and draconian that it would force them to compromise and come up with something workable before the deadline. The sequester triggers across-the-board budget cuts totaling $1.2 trillion through 2021, hitting defense and non-defense spending equally. This means that all programs get slashed indiscriminately, without considering which services are most vital or where there is waste that could be cut without impacting services. This year’s spending reduction is $85 billion.

What happens to mortgage rates?

We’re already seeing the result of ebbing confidence in the US economy. Investors have been given plenty of positive economic news lately, which would ordinarily cause them to pull money from safe government bonds and other fixed-income vehicles, and move it into equities and other riskier but more profitable enterprises. This would ordinarily cause bond prices to drop and interest rates to rise.

Here are the most notable reasons for economic optimism:

A substantial increase in home sales, with the properties going into escrow at a clip unseen in 2.5 years.

The Consumer Confidence Index, measured by business research group The Conference Board, spiked from 58.4 in January to an astonishing 69.6 in February!

Standard & Poor’s/Case-Shiller 20-city home price index rose 6.8 percent in December from a year earlier. That was the biggest year-over-year increase since July 2006.

In spite of this encouraging news, however, bond prices have plenty of support, and mortgage rates have actually dropped as the sequestration nears. Once again, the stability of the US economy has been threatened by a collection of leaders who can’t seem to compromise in a meaningful way and put the US budget to bed. Once again, worry over what could happen if the sequester goes into effect – the loss of jobs, the decline of consumer spending and the erosion of property value, for starters – is causing investors to keep their money in relatively safe bonds.

Supply and Demand

Another possible side effect of sequestration is less demand for mortgages. Businesses that are especially vulnerable to reductions in federal spending may lay off workers if sequestration takes effect, and government employees are also on the chopping block. People are far less likely to buy homes while uncertain about their jobs or their business income. This can drop the demand for mortgages, and lenders may no longer be operating at full capacity. Analysts have been saying for some time that there is room for lenders to lower mortgage rates, and that the reason this hasn’t yet happened is the fact that lenders have more business than they can handle. If business drops off, we could see additional declines in mortgage rates.